FYBsc – Semester II – Management Accounting

BUDGETS & BUDGETARY CONTROL

PRACTICAL PROBLEMS
ILLUSTRATION 1
A factory which expects to operate 7,000 hours, i.e., at 70% level of activity, furnishes details of
expenses as under:
Variable expenses Rs. 1,260
Semi-variable expenses Rs. 1,200
Fixed expenses Rs. 1,800
The semi-variable expenses go up by 10% between 85% and 95% activity and by 20% above 95%
activity. PREPARE a flexible budget for 80, 90 and 100 per cent activities.
ILLUSTRATION 2:
A department of Company X attains sale of Rs. 6,00,000 at 80% of its normal capacity and its
expenses are given below:
Administration costs: (Rs.)
Office salaries 90,000
General expenses 2% of sales
Depreciation 7,500
Rates and taxes 8,750
Selling costs: (Rs.)
Salaries 8% of sales
Travelling expenses 2% of sales
Sales office expenses 1% of sales
General expenses 1% of sales
Distribution costs: (Rs.)
Wages 15,000
Rent 1% of sales
Other expenses 4% of sales
PREPARE flexible administration, selling and distribution costs budget, operating at 90%, 100% and
110% of normal capacity.
ILLUSTRATION 3
Action Plan Manufacturers normally produce 8,000 units of their product in a month, in their
Machine Shop. For the month of January, they had planned for a production of 10,000 units.
Owing to a sudden cancellation of a contract in the middle of January, they could only produce
6,000 units in January.

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Indirect manufacturing costs are carefully planned and monitored in the Machine Shop and the
Foreman of the shop is paid a 10% of the savings as bonus when in any month the indirect
manufacturing cost incurred is less than the budgeted provision.
The Foreman has put in a claim that he should be paid a bonus of Rs.88.50 for the month of
January. The Works Manager wonders how anyone can claim a bonus when the Company has lost
a sizeable contract. The relevant figures are as under:
Indirect manufacturing Expenses for a Planned for Actual in costs
normal month January January
(Rs.) (Rs.) (Rs.)
Salary of foreman 1,000 1,000 1,000
Indirect labour 720 900 600
Indirect material 800 1,000 700
Repairs and maintenance 600 650 600
Power 800 875 740
Tools consumed 320 400 300
Rates and taxes 150 150 150
Depreciation 800 800 800
Insurance 100 100 100
Total 5,290 5,875 4,990
Do you agree with the Works Manager?
Is the Foreman entitled to any bonus for the performance in January? Substantiate your answer
with facts and figures. EXPLAIN.
ILLUSTRATION 4
A single product company estimated its quarter-wise sales for the next year as under:
Quarter Sales (Units)
I 30,000
II 37,500
III 41,250
IV 45,000
The opening stock of finished goods is 6,000 units and the company expects to maintain the
closing stock of finished goods at 12,250 units at the end of the year. The production pattern in
each quarter is based on 80% of the sales ofthe current quarter and 20% of the sales of the next
quarter. The company maintains this 20% of sales of next quarter as closing stock of current
quarter.
The opening stock of raw materials in the beginning of the year is 10,000 kgs. and the closing
stock at the end of the year is required to be maintained at 5,000 kgs. Each unit of finished
output requires 2 kgs. of raw materials.
The company proposes to purchase the entire annual requirement of raw materials in the first three
quarters in the proportion and at the prices given below:
Quarter Purchase of raw materials % to total Price per
annual requirement in quantity kg. (Rs.)
I 30% 2
II 50% 3
III 20% 4

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The value of the opening stock of raw materials in the beginning of the year is Rs. 20,000.
You are required to PREPARE the following for the next year, quarterwise:
(i) Production budget (in units).
(ii) Raw material consumption budget (in quantity).
(iii) Raw material purchase budget (in quantity and value).
(iv) Priced stores ledger card of the raw material using First in First out method.

ILLUSTRATION 5
A company is engaged in the manufacture of specialised sub-assemblies required for certain
electronic equipment. The company envisages that in the forthcoming month, December,
2020, the sales will be in the ratio of 3 : 4 : 2 respectively of sub-assemblies, ACB, MCB and
DP.
The following is the schedule of components required for manufacture:
Component requirements

Sub-assembly Selling Price Base board IC08 IC12 IC26

ACB 520 1 8 4 2
MCB 500 1 2 10 6
DP 350 1 2 4 8
Purchase price (Rs.) 60 20 12 8
The direct labour time and variable overheads required for each of the sub- assemblies are:
Labour Hours Variable overheads
Particulars
Grade A Grade B (Rs.)
ACB 8 16 36
MCB 6 12 24
DP 4 8 24
Direct wage rate per hour (Rs.) 5 4 —
The labourers work 8 hours a day for 25 days a month.
The opening stocks of sub-assemblies and components for December, 2020 are as under:
Sub-assemblies Components
ACB 800 Base Board 1,600
MCB 1,200 IC08 1,200
DP 2,800 IC12 6,000
IC26 4,000
Fixed overheads amount to Rs.7,57,200 for the month and a monthly profit target of Rs. 12 lacs
has been set.
The company is eager for a reduction of closing inventories for December, 2020 of sub-
assemblies and components by 10% of quantity as compared to the opening stock.
PREPARE the following budgets for December 2020:
(a) Sales budget in quantity and value.
(b) Production budget in quantity.
(c) Component usage budget in quantity.
(d) Component purchase budget in quantity and value.
(e) Manpower budget showing the number of workers and the amount of wages payable.

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ILLUSTRATION 6
Float glass Manufacturing Company requires you to PREPARE the Master budget forthe next year
from the following information:
Sales:
Toughened Glass Rs. 6,00,000
Bent Glass Rs. 2,00,000
Direct material cost 60% of sales
Direct wages 20 workers @ Rs. 150 per month
Factory overheads:
Indirect labour
Works manager Rs. 500 per month
Foreman Rs. 400 per month
Stores and spares 2.5% on sales
Depreciation on machinery Rs. 12,600
Light and power Rs. 3,000
Repairs and maintenance Rs. 8,000
Others sundries 10% on direct wages
Administration, selling and distribution expenses Rs. 36,000 per year.

BUDGET RATIO
Budget Ratios:

(ii) Activity Ratio

(iii) Calendar Ratio =

(iv) Standard Capacity Usage Ratio =

(v) Actual Capacity Usage Ratio =

Meaning of Ratios: Ratio is a mathematical relationship between two or more related figures.
Budget ratios provide information about the performance level, i.e., the extent of deviation of actual
performance from the budgeted performance and whether the actual performance is favourable or
unfavorable. If the ratio is 100% or more, the performance is considered as favourable and if ratio is
less than 100% the performance is considered as unfavourable.
The following ratios are usually used by the management to measure development from budget.
1) Capacity Usage Ratio: This relationship between the budgeted number of working hours and
the maximum possible number of working hours in a budget period.
2) Standard Capacity Employed Ratio: This ratio indicates the extent to which facilities were
actually utilized during the budget period.
3) Level of Activity Ratio: This may be defined as the number of standard hours equivalent to
work produced expressed as a percentage of the budget of standard hours.
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4) Efficiency Ratio: This ratio may be defined as standard hours equivalent of work produced
expressed as a percentage of the actual hours spent in producing the work.
5) Calendar Ratio: This ratio may be defined as the relationship between the number of
working days in a period and the number of working as in the relative budget period.
ILLUSTRATION 7
Following data is available for DKG and Co:
Standard working hours 8 hours per day of 5 days per week
Maximum capacity 50 employees
Actual working 40 employees
Actual hours expected to be worked per four week 6,400 hours Std. hours expected to be
earned per four weeks 8,000 hours Actual hours worked in the four- week period 6,000 hours
Standard hours earned in the four- week period 7,000 hours.
The related period is of 4 weeks. In this period there was a one special day holiday due to
national event. CALCULATE the following ratios:
(1) Efficiency Ratio,
(2) Activity Ratio,
(3) Calendar Ratio,
(4) Standard Capacity Usage Ratio,
(5) Actual Capacity Usage Ratio.
(6) Actual Usage of Budgeted Capacity Ratio.
ILLUSTRATION 8
Saurashtra Co. Ltd. wishes to arrange overdraft facilities with its bankers from the period
August to October 2019 when it will be manufacturing most of the stock. Prepare a cash
budget for the above period from the following data given below:
Month Sales Purchases Wages Mfg. Office Selling
(Rs.) (Rs.) (Rs.) Expenses. Expenses Expenses
(Rs.) (Rs.) (Rs.)
June 1,80,000 1,24,800 12,000 3,000 2,000 2,000
July 1,92,000 1,44,000 14,000 4,000 1,000 4,000
August 1,08,000 2,43,000 11,000 3,000 1,500 2,000
Sept 1,74,000 2,46,000 12,000 4,500 2,000 5,000
Oct 1,26,000 2,68,000 15,000 5,000 2,500 4,000
Nov 1,40,000 2,80,000 17,000 5,500 3,000 4,500
Dec 1,60,000 3,00,000 18,000 6,000 3,000 5,000
Additional Information:
a) Cash on hand 1.8.2019 is Rs. 25,000.
b) 50% of credit sales are realized in the month following the sale and the remaining 50%
in the second month following.
c) Creditors are paid in the month following the month of purchase.
d) Lag in payment of manufacturing expenses half month.
e) Lag in payment of other expenses one month.

“Budgeting is not just for people who do not have enough money.
It is for everyone who wants to ensure that their money is enough.”

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BUDGET & BUDGETARY CONTROL - THEORY

INTRODUCTION: Budget, budgeting, budgetary control and standard costing are essential tools
frequently used by business executives for the purpose of planning, execution and control of
business activities. In the case of budgetary control, the exercise starts with the setting up of
budgets or targets, measuring achievements, comparing actual achievements with budget and
ends with the taking remedial actions, in case the actual figures differ with the budgetary ones.

Meaning of Budget: A budget is an instrument of management used as an aid in the planning,

programming and control of business activity. The Chartered Institute of Management Accountants
(CIMA) UK defines budget as “A financial and/or quantitative statement, prepared and approved
prior to a defined period of time of the policy to be pursued during that period for the purpose of
attaining a given objective. It may include income, expenditure and employment of capital” The
budget is a blue- print of the projected plan of action expressed in quantitative terms for a
specified period of time.
Meaning of Budgeting: Budgeting is the process of designing, implementing and operating of
budget. The main emphasis in budgeting process is the provision of resources to support plans
which are being implemented. It is a means of coordinating the combined intelligence of an entire
organisation into a plan of action based on past performance and governed by rational judgment of
factors that will influence the course of business in the future.

Essential Characteristics of budget: The main characteristics of budget are as follows:

1) A budget is concerned for a definite future period.
2) A budget is a written document.
3) A budget is a detailed plan of all the economic activities of a business.
4) All the departments of a business unit should co-operate for thepreparation of a business
budget.
5) Budget is a mean to achieve business objectives and it is not an end initself.
6) Budget needs to be updated, corrected and controlled every time circumstances change.
Therefore, it is a continuous process.
7) Budget helps in planning, coordination and control.
8) Different types of budgets are prepared by industries according tobusiness requirements.
9) A budget acts as a business barometer.
10) Budget is usually prepared in the light of past experiences.
11) Budget is a constant endeavour of the Management.
Budgetary control: CIMA has defined the terms ‘”budgetary control’ as the establishment of
budgets relating to the responsibilities of executives to the requirements of a policy and the
continuous comparison of actual with budgeted results, either to secure by individual action, the
objective of that policy or to provide a basis for its revision”. “It is the system of management
control and accounting in which all the operations are forecasted and planned in advance to the
extent possible and the actual results compared with the forecasted and planned results.

Budgetary Control Involves:

1) Establishment of budgets
2) Continuous comparison of actuals with budgets for achievement of targets.
3) Revision of budgets after considering the changes in the circumstances.
4) Fixation of the responsibility for failure to achieve the budget targets.

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Advantages of Budgetary Control System:

1) Efficiency: The use of budgetary control system enables the management of a business entity
to conduct its business activities in an efficient manner.
2) Control on expenditure: It is a powerful instrument used by business entity for the control of
their expenditure. It provides a yardstick for measuring and evaluating the performance of
individuals andtheir departments.
3) Finding deviations: Budget reveals the deviations of the actual from the budgeted figures after
making a comparison and communicating the deviation to management.
4) Effective utilisation of resources: Effective utilisation of various resources like— men, material,
machinery and money—is made possible, as the production is planned after taking these into
account.
5) Revision of plans: Budget helps in the review of current trends and framing of future policies.
6) Implementation of Standard Costing system: Budget creates suitable conditions for the
implementation of standard costing system in a business organisation.
7) Cost Consciousness: Budgetary control system encourages cost consciousness and maximum
utilisation of available resources.
8) Credit Rating: Management which have developed a well ordered budget plans and which
operate accordingly, receive greater favour from credit agencies.

Limitations of Budgetary Control System

1) Based on Estimates: Budgets are based on a series of estimates, which are based on the
conditions prevalent or expected at the time budget is established. It requires revision in plan if
conditions change.
2) Time factor: Budgets cannot be executed automatically. Some preliminary steps are required to
be accomplished before budgets are implemented. It requires proper attention and time of
management. Management must not expect too much during the initial development period.
3) Co-operation Required: Staff co-operation is usually not available during the initial budgetary
control exercise. In a decentralised organisation, each unit has its own objective and these units
enjoy some degree of discretion. In this type of organisation structure, coordination among
different units is required. The success of the budgetary control depends upon willing co-
operation and teamwork.
4) Expensive: The implementation of budget is somewhat expensive. For successful
implementation of the budgetary control, proper organisation structure with responsibility is
prerequisite. Budgeting process start from the collection of information to for preparing the
budget and performance analysis. It consumes valuable resources (in terms of qualified
manpower, equipment, etc.) for this purpose; hence, it is an expensive process.
5) Not a substitute for management: Budget is only a managerial tool and must be intelligently
applied for management to get benefited. Budgets are not a substitute for good management.
6) Rigid document: Budgets are sometime considered as rigid documents. But in reality, an
organisation is exposed to various uncertain internal and external factors. Budget should be
flexible enough to incorporate ongoing developments in the internal and external factors
affecting the very purpose of the budget.

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Classification on the basis of Capacity or Flexibility: These types of budgets are prepared on the
basis of activity level or utilization of capacity. These are also known as “Budgets on the basis of
flexibility”. Such budgets are classified into (i) Fixed Budget and (ii) Flexible Budget.
Sl. No. Fixed Budget Flexible Budget
1. It does not change with actual volume of It can be re-casted on the basis of
activity achieved. Thus it is known as rigid activity level to be achieved. Thus it is
or inflexible budget. not rigid.
2. It operates on one level of activity and It consists of various budgets for
under one set of conditions. It assumes that different levels of activity.
there will be no change in the prevailing
conditions, whichis unrealistic.
3. Here as all costs like - fixed, variable and Here analysis of variance provides
semi-variable are related to only one useful information as each cost is
level of activity so variance analysis does analysed according to its behaviour.
not give useful information.
4. If the budgeted and actual activity levels Flexible budgeting at different levels of
differ significantly, then the aspects like activity facilitates the ascertainment of
cost ascertainment and price fixation do cost, fixation of selling price and
not give a correct picture. tendering of quotations.
5. Comparison of actual performance with It provides a meaningful basis of
budgeted targets will be meaningless comparison of the actual performance
specially when there is a difference with the budgeted targets.
between the two activity levels.

Classification on the basis of Function: A functional budget is one which is related to function of
the business as for example, production budget relating to the manufacturing function. Functional
budgets are prepared for each function and they are subsidiary to the master budget of the
business.
The various types of functional budgets to be prepared will vary according to the size and
nature of the business. The various commonly used functional budgets are:
1) Sales budget
2) Production budget
3) Plant utilisation budget
4) Direct-material usage budget
5) Direct-material purchase budget
6) Direct-labour (personnel) budget
7) Factory overhead budget
8) Production cost budget
9) Ending-inventory budget
10) Cost-of-goods-sold budget
11) Selling and distribution cost budget
12) Administration expenses budget
13) Research and development cost budget
14) Capital expenditure budget
15) Cash budget

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1) Sales Budget:
a) Sales forecast is the commencement of budgeting and hence sales budget assumes
primary importance. The quantity which can be sold may be the principal budget
factor in many business undertakings. In any case in order to chalk out a realistic
budget programme, there must be an accurate sales forecast.
b) The sales budget is prepared for each product. This includes the quantity of
estimated sales and the expected unit selling price. These data are often reported by
regions or by sales representatives.
c) In estimating the quantity of sales for each product, past sales volumes are often used
as a starting point. These amounts are adjusted (increased or decreased) for factors
that are expected to affect future sales. , Such as the factors listed below.
(i) Backlog of unfulfilled sales orders
(ii) Planned advertising and promotion
(iii) Expected industry and general economic conditions
(iv) Productive capacity
(v) Projected pricing
(vi) Findings of market research studies
(vii) Relative product profitability.
(viii) Competition.
d) Once an estimate of the sales volume is obtained, the expected sales revenue can be
determined by multiplying the volume by the expected unit sales price. The sales
budget represents the total sales in physical quantities and values for a future budget
period. Sales managers are constantly faced with problems like anticipation of customer
requirements, new product needs, competitor strategies and various changes in
distribution methods or promotional techniques.
e) The purposes of sales budget are not to attempt to estimate or guess what the actual
sales will be, but rather to develop a plan with clearly defined objectives towards which
the operational effort is directed in order to attain or exceed the objective. Hence, sales
budget is not merely a sales forecast. A budget is a planning and control document
which shows what the management intends to accomplish. Thus, the sales budget is
active rather than passive document.
f) A sales forecast, is a projection or estimate of the available customer demand. A
forecast reflects the environmental or competitive situation facing the company
whereas the sales budget shows how the management intends to react to this
environmental and competitive situation.
g) A good budget hinges on aggressive management control rather than on passive
acceptance of whatever the market appears to offer. If the company fails to make this
distinction, the budget will remain more a figure-work exercise than a working tool of
dynamic management control.
h) The sales budget may be prepared under the following classification orcombination of
classifications:
(i) Products or groups of products.
(ii) Areas, towns, salesmen and agents.
(iii) Types of customers as for example: (i) Government, (ii) Export, (iii)Home sales, (iv)
Retail depots.
(iv) Period—months, weeks, etc.

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The illustrative format of a sales budget is as under:
Last Year Budgeted Northern Southern Central
Total Year Total Region Region Region
Qty. Value Qty. Value Qty. Value Qty. Value Qty. Value
Product X
1st Qtr.
2nd Qtr.
3rd Qtr.
4th Qtr.
Product Y
1st Qtr.
:
Total
Example of sales budget:
XYZ COMPANY
Sales Budget for the year ending March, 20....
Units Selling price Per unit (Rs.) Total (Rs.)
Product A 5,000 75 3,75,000
Product B 10,000 80 8,00,000
11,75,000

2) Production Budget: Production Budget is a forecast of the production for the budget period
of an organisation. Production budget is prepared in two parts, viz. production volume budget
for the physical units of the products to be manufactured and the cost of production or
manufacturing budget detailing the budgeted cost under material, labour, and factory
overhead in respect of the products. Production budget shows the production for the budget
period based upon:
a) Sales budget,
b) Production capacity of the factory,
c) Planned increase or decrease in finished stocks, and
d) Policy governing outside purchase.
Production budget is normally stated in units of output . Production should be carefully
coordinated with the sales budget to ensure that production and sales are kept in balance
during the period. The number of units to be manufactured to meet budgeted sales
and inventory needs for each product is set forth in the production budget.
The production facility available and the sales budget will be compared and coordinated
to determine the production budget. If production facilities are not sufficient,
consideration may be given to such factors as working overtime, introducing shift working,
sub-contracting or purchasing of additional plant and machinery. If, however, the production
facilities are surplus, consideration should be given to promote advertising, reduction of
prices to increase the sales, sub-contracting of surplus capacity, etc.
One of the conditions to be considered in all the compilation of production budget is
the level of stock to be maintained.
Production budget can, therefore, show:
a) Stabilised production every month, say, the maximum possible production; or
b) Stabilised minimum quantity of stocks which will reduce inventory costs.
c) In the case of stabilised production, the production facility will be fully utilized, but the
inventory carrying costs will vary according to stocks held. In the case of stabilised stocks

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method, however, the inventory carrying will be the lowest, but there may be under-
utilisation of capacity.
Example of production budget:
XYZ COMPANY
Production budget in units for the year ending March 31, 20....
Products
A B
Budgeted sales 5,000 10,000
Add : Desired closing stock 500 1,000
Total quantity required 5,500 11,000
Less : Opening stock 1,500 2,000
Units to be produced 4,000 9,000

3) Plant Utilisation Budget: Plant utilisation budget represents, in terms of working hours,
weight or other convenient units of plant facilities required to carry out the programme
laid down in the production budget.
4) Direct Material usage Budget: The steps involved in the compilation of direct materials
usage budget areas under:
a) The quality standards for each item of material have to be specified. In this connection,
standardisation of size, quality, colour, etc., may beconsidered.
b) Standard requirement of each item of materials required should also be set. While
setting the standard quality, consideration should be given to normal loss in process.
The standard allowance for normal loss may be given on the basis of past performance,
test runs, technical estimates etc.
c) Standard prices for each item of materials should be set after giving consideration to
stock and contracts entered into.
d) After setting standards for quality, quantity and prices, the direct materials cost
budget can be prepared by multiplying each item of material required for the
production by the standard price.
Example of direct material usage budget is as under:

XYZ COMPANY
Direct material usage in units and in amount
for the year ending March 31, 20...
Direct Materials
Type of material Product A Product B Total direct Material Total cost

(4,000 units) (9,000 units) material cost per of material

usage (Units)

X (12 units per

finished product) 48,000 1,08,000 1,56,000 1.50 2,34,000

Y (4 units per

product A & 2
units per product B) 16,000 18,000 34,000 2.50 85,000
Total 3,19,000

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5) Purchase Budget:
a) The production budget is the starting point for determining the estimated quantities of
direct materials to be purchased.
b) Multiplying these quantities by the expected unit purchase price determines the total cost
of direct materials to be purchased. Two important considerations that govern purchase
budgets are (i) Economic order quantity. And (ii) Re-order point with safety stocks to cover
fluctuations in demand.
c) The direct material purchases budget helps management maintain inventory levels within
reasonable limits. , For this purpose, the timing of the direct materials purchases should
he coordinated between the purchasing and production departments.
An example of material purchase budget is as under:
XYZ Company
Direct material purchase budget
for the year ending March 31, 20.....
Material X Material Y Total
Desired closing stock (units) 3,000 500
Units required for production 1,56,000 34,000
Add:
Total Requirement 1,59,000 34,500
Less: Opening stock (units) 4,000 300
Units to be purchased 1,55,000 34,200
Unit price (Rs.) 1.50 2.50
Purchase cost (Rs.) 2,32,500 85,500 3,18,000

6) Personnel (or Labour cost) Budget: Once sales budget and Production budget are
compiled and plant utilisation budget is decided detailed amount of the various machine
operations involved and services required can be calculated . This will facilitate preparation of
an estimate of different grades of labour required.
From this, the standard hours required to be worked can be calculated The total labour
component thus budgeted can be divided into direct and indirect labour. Standard rates of
wages for each grade of labour can be introducedand then the direct and indirect labour
cost budget can be prepared.
Example of direct-labour cost budget:
XYZ COMPANY
Direct-labour cost budget
for the year ending March 31, 20...
Units to be Direct labour Total Total budget cost (Rs.)
produced hour, per unit hours @ Rs. 2 per hour
Product A 4,000 7 28,000 56,000
Product B 9,000 10 90,000 1,80,000
1,18,000 2,36,000
7) Production or Factory overhead Budget:
a) Production overheads consist of all items such as indirect materials, indirect labour and
indirect expenses. Indirect expenses. These include expenditures on factors such as power,
fuel, fringe benefits, depreciation etc. The estimated overheads which are necessary for
production in the factory are called factory overhead costs and included in the factory
overhead budget.

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b) Factory overhead budget usually includes the total estimated cost for each item of factory
overhead.
c) The production overhead budget is useful for working out the pre- determined overhead
recovery rates.
d) A business may prepare supporting departmental schedules, in which the factory
overhead costs are separated into their fixed and variablecost elements. Such schedules
enable department managers to direct their attention to those costs for which they are
responsible and to evaluate performance of each department.
e) A careful study and determination of the behaviour of different types of costs will be
essential in preparation of overhead budget.
f) A few examples are given below to show how the expenses are estimated.
 Fixed expenses are normally policy costs and hence they are based on policy
matters.
 For estimating indirect labour, work study is resorted to and a estimate of number of
indirect workers required for each level of direct workers employed is made. for
example, one supervisor for every twenty direct workers.
 In regard to the estimate of consumption of indirect materials, the age and
condition of the plant and machinery are taken into consideration.
Example of factory overhead budget:
XYZ COMPANY
Factory overhead budget for the year ending March 31, 20....
(Anticipated activity of 1,18,000 direct labour hours)
(Rs.) (Rs.)
Supplies 12,000
Indirect labour 30,000
Cost of fringe benefits 10,000
Power (variable portion) 22,000
Maintenance cost (variable portion) 15,000
Total variable overheads 89,000
Depreciation 10,000
Property taxes 2,000
Property insurance 1,000
Supervision 12,000
Power (Fixed portion) 800
Maintenance (Fixed portion) 3,200
Total fixed overheads 29,000
Total factory overheads 1,18,000
Factory overhead recovery rate is:
Rs. 1,18,000 ÷ 1,18,000 labour hours = Re. 1 per direct labour hour.
8) Production Cost Budget: Production Cost Budget is a forecast of the production for the
budget period of an organisation. Production budget is prepared in two parts, viz. production
volume budget for the physical units of the products to be manufactured and the cost of
production or manufacturing budget detailing the budgeted cost under material, labour,
and factory overheadin respect of the products.
Production cost budget covers direct material cost, direct labour cost and manufacturing
expenses. After preparing direct material, direct labour and production overhead cost
budget, one can prepare production cost budget.

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9) End of the year (or closing) Inventory Budget: This budget shows the cost of closing
stock of raw materials and finished goods, etc. required to be maintained by the business
entity. This information is required to prepare cost-of-goods-sold budget and budgeted
financial statements i.e., budgeted income statement and budgeted balance sheet.
Example of end of the year (or closing) inventory budget:
XYZ Company end of the year inventory budget March 31, 20....
Units Unit cost Amount Total

Direct material
X 3,000 1.50 4,500
500 2.50 1,250 5,750
Finished goods
A 500 49.00* 24,500
1,000 53.00* 53,000 77,500
Total 83,250
* Unit cost of finished goods have been computed as below:
Unit cost Product A Product B
of input Units Amount Units Amount
(`)
Material X 1.50 12 18.00 12.00 18.00
Material Y 2.50 10.00 2.00 5.00
Direct labour 2.00 14.00 10.00 20.00
Factory overhead 1.00 7.00 10.00 10.00
49.00 53.00
10) Cost of Goods Sold Budget: This budget covers direct material cost, direct labour cost
and manufacturing expenses. This is adjusted by addition of the cost of the opening
inventory and reducing therefrom the cost of closing inventory of finished products.
We present below the cost-of-goods-sold budget on the basis of the data taken from the
various budgets already illustrated:
XYZ Company cost-of-goods-sold budget for the year ending
March 31, 20....
Amount
(`)
Direct materials used 3,19,000
Direct labour 2,36,000
Factory overhead 1,18,000
Total manufacturing costs 6,73,000
Add : Finished goods (opening) 1,79,500*
8,52,500
Less : Finished goods (closing) 77,500*
Total cost of goods sold 7,75,000
*Assumed figure
In the above budget if adjustments for opening and closing inventory of finished
goods are not shown. The budget will be called production cost budget.
11) Selling and Distribution Cost Budget: Selling and distribution are the essential aspects of
the profit earning function. At the same time, the pre-determination of these costs is very
difficult. Selling & Distribution Cost Budget is a forecast of the cost of selling & distribution
of goods during the budget period. Selling cost is defined as the cost of seeking to create

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FYBsc – Semester II – Management Accounting
and stimulate demand and of securing orders. These costs are, therefore, incurred to
maintain and increase the level of sales. All expenses connected with advertising, sales
promotion, sales office, salesmen, credit collection, market research, after sales service, etc.
are generally grouped together to form part of the responsibility of the sales manager.
While making a budget, selling costs are divided into fixed and variable. Semi-variable costs
should also be separated into variable and fixed elements.
Example of selling and distribution cost budget:
XYZ Company selling and distribution cost
budgetfor the year ending March 31, 20....
Direct selling expenses: Amount
Salesmen’s salaries 14,500
Salesmen’s commission 7,000
Travelling expenses 19,000
40,500
Distribution expenses:
Warehouse wages 6,000
Warehouse rent, rates, electricity 4,500
Lorry expenses 11,000
21,500
Sales office expenses:
Salaries 16,000
Rent, rates, electricity 12,000
Depreciation 2,000
Stationery, postage and telephone 12,500
General expenses 3,000
45,500
Advertising:
Press 4,500
Radio and television 18,500
Shop window displays 4,000
27,000
Total 1,34,500
12) Administrative expenses Budget: The administrative expenses are mostly policy costs and
are, therefore, fixed in nature. The most practical method to follow in preparing estimate
of these expenses is to follow the past experience with due regard to antic- ipated
changes either in general policy or the volume of business. To bring such expenses
under control, it is necessary to review them frequently and to determine at regular intervals
whether or not these expenses continue to be adjusted. Examples of such expenses are: board
meeting expenses, expenditure incurred on staff employed in human resources and finance
departments, audit fees, depreciation of office equipment, insurance, subscriptions, postage,
stationery, telephone, telegrams, office supplies, etc.
XYZ Company administrative expenses budget (Rs.)
for the year ending March 31, 20...
Salaries of clerical staff 28,000
Executives’ salaries 8,000

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FYBsc – Semester II – Management Accounting
Audit fee 600
Depreciation on office equipment 800
Insurance 250
Stationery 1,250
Postage and telegrams 950
Telephones 850
Miscellaneous 5,300
Total administrative expenses 46,000
13) Research and Development expense Budget: Research and development expenditure is to
be incurred so that the products or methods of production do not become obsolete. The
research and development budget is the forecast of all such expenses. Research is required in
order to develop and/or improve products and methods. When research results in definite
benefit to the company, development function begins. After development, formal production
can commence on commercial scale and then production function starts. Since the areas of
research and development cannot be precisely defined, the costs incurred under both the
functions are clubbed together as research and development costs. Research and
Development (R & D) plays a vital role in maintaining the business. For example, automobile
manufacturers, and those who produce drugs, spend considerable sums on R & D to improve
their products.
Research may be either pure research or applied research. Pure research increases knowledge
whereas applied research aims at producing definite results like improved methods of
production, etc.
Research and development expenses should be controlled carefully and hence a limit on the
spending is placed, i.e., the amount to be spent iscarefully determined or allocated.
14) Capital expenditure Budget: The capital expenditure budget represents the planned
outlay on fixed assets like land, building, plant and machinery, etc. during the budget
period. This budget is subject to strict management control because it entails large
amount of expenditure. The budget is prepared to cover a long period of years and it
projects the capital costs over the period in which the expenditure is to be incurred and
the expected earnings.
15) Cash Budget: Cash Budget is a detailed budget of cash receipts and cash payments
incorporating both revenue and capital items for the budget period. This budget is usually of
two parts giving detailed estimates of (i) cash receipts and (ii) cash disbursements. Estimates
of cash-receipts are prepared on a monthly basis and depend upon estimated cash-sales,
collections from debtors and anticipated receipts from other sources such as sale of assets,
borrowings, etc. Estimates of cash disbursements are based on estimated cash purchases,
payments to creditors, employees’ remuneration, bonus, advances to suppliers, budgeted
capital expenditure for expansion, etc.
Cash budget represents the cash requirements of the business during the budget period. It is
the plan of receipts and payments of cash for the budget period, analysed to show the
monthly flow of cash drawn up in such a way that the balance can be forecasted at
regular intervals.
The cash budget is one of the most important elements of the budgeted balance sheet.
Information from the various operating budgets, such as the sales budget, the direct
materials purchases budget, and the selling and administrative expenses budget, affects
the cash budget. In addition, the capital expenditures budget, dividend policies, and plans
for equity or long-term debt financing also affect the cash budget.

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FYBsc – Semester II – Management Accounting

Master Budget: CIMA, London, defines it as “the summary budget, incorporating its component
functional budgets, which is finally approved, adopted and employed.” When all the necessary
functional budgets have been prepared, the budget officer will prepare the master budget which
may consist of budgeted profit and loss account and budgeted balance sheet. These are in fact the
budget summaries. When the master budget is approved by the board of directors, it represents a
standard for the achievement of which all the departments will work. On the basis of the various
budgets (schedules) prepared earlier in this study, we prepare below budgeted income statement
and budgeted balance sheet.
Example of budgeted income statement:
XYZ Company Budgeted Income Statement
For the Year Ending March 31, 20....
(Rs.) Amount (Rs.)
Sales 11,75,000
Less: Cost of goods sold 7,75,000
Gross margin 4,00,000
Less: Selling and distribution expenses 1,36,500
Less: Administrative expenses 46,000 1,82,500
Profit before interest and taxes 2,17,500
Interest expenses (assumed) 50,000
Profit before tax 1,67,500
Income-tax (30% assumed) 50,250
Net profit 1,17,250
Example of budgeted balance sheet:
XYZ Company Budgeted Balance Sheet March 31, 20....
(Rs.) (Rs.) (Rs.)
Share capital 3,50,000
Retained income 1,29,000 4,79,000
Represented by:
Plant and machinery 3,40,000
Less: Provision for depreciation 60,000 2,80,000
Raw materials 5,750
Finished goods 77,500
Debtors 1,10,000
Cash 37,750 2,31,000
Less: Creditors 32,000 1,99,000
4,79,000
Note: Information not available in respect of share capital, opening balance of retained earnings, current
assets and current liabilities, etc., has been assumed to complete the above balance sheet.

“A Debt Problem Is, At Its Core, a Budgeting Problem.”

Budgets & Budgetary Control 17